Key insights
- The article discusses the long-term wealth creation potential of investing in the Vanguard S&P 500 ETF (VOO). It highlights that while individual stock picking is difficult and many stocks underperform, the market as a whole, driven by megawinners, has historically trended upward. The piece emphasizes the power of compounding and suggests that a dollar-cost averaging strategy, even with modest monthly investments, can significantly amplify returns over 20 years compared to a lump-sum investment. The analysis is based on historical S&P 500 performance.
Investing is one of the best ways to create long-term wealth. And while past performance doesn't guarantee future returns, the market as a whole has always marched higher over the long run.
Investing in individual stocks can actually be quite difficult, as most stocks underperform the market; J.P. Morgan analysts found that about 40% of stocks produced negative total returns between 1980 and 2020. It also didn't matter what sectors you invested in, as all had their fair share of losers.
However, the market as a whole during this stretch performed well, led by a group of megawinners that outperformed the Russell 3000 Index by 500% or more. About 10% of the stocks in the Russell 3000, which comprises the 3,000 largest companies in the U.S., met this criterion. And it is largely these megawinners that have helped power the S&P 500 higher over the years, as well.
That is why, despite being a big fan of buying and holding individual stocks, I recommend that even experienced investors own an S&P 500 index fund, such as the Vanguard S&P 500 ETF (VOO 0.26%), as a core holding. Based on the ETF's performance over the past decade, a $1,000 investment in the fund would be worth around $18,000 in 20 years. That's a great return, but it could be a whole lot more if you deploy a dollar-cost-averaging strategy and invest $1,000 a month.
If you invested $1,000 a month and were able to achieve the 15.6% average annual return the S&P 500 produced over the past decade, you'd have $1.4 million at the end of 20 years. That's a huge difference from just buying and holding the ETF. Notably, nearly $1.2 million of that ending balance would be attributable to appreciation. Even adding just $500 a month to that initial $1,000 investment would bring your ending balance to around $724,000, and $250 a month would bring it to around $371,000. While actual returns will vary, the power of long-term compounding is the driving force behind these big gains, and that doesn't change.
I'm also a big fan of using the Vanguard S&P 500 ETF to dollar-cost average instead of investing in individual stocks, because it gives you exposure to a dynamic portfolio of stocks. The JP Morgan study also found that 40% of stocks in the Russell 3000 have experienced drops of 70% or more from which they never fully recovered, so there is much more of a risk that you'll fall into a value trap when buying individual stocks. The S&P 500, on the other hand, lets its winners run and its losers fade, so you're naturally investing more in the market's winners over time and not chasing a potential loser on the way down.